Financial Globalization, Public Goods and Democracy

Working Paper #316

This paper discusses the impact of financial globalization on the transition from an immature democracy (based on a simple technology and pure redistribution) to a mature democracy (based on a complex technology and the provision of public goods). The model includes two countries in the international economy with two different production functions, a Solovian South and a Schumpeterian North. It also considers two different international regimes of capital mobility, the Bretton Woods regime (BG) and Rodrik’s hyperglobalization (HG) regime. It is argued that a) HG compromises the emergence of a mature democracy in the South by reducing the ability of the citizens to tax and provide public goods which are crucial for technical change; b) barriers to capital mobility applied at a national level may encourage the elite to stage a coup to impose financial liberalization. The results of the model are consistent with the empirical evidence showing that financial globalization is associated with democracy mostly in countries which already provide public goods; that countries that democratize at lower levels of income per capita tend to have less stable democracies; and that there exists a positive association between economic diversification and more stable democracies.